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Sterling Sets New Six Month Low Ahead of Unchanged Inflation Release

THE TAKEAWAY: UK inflation remains at 2.7% for the fourth straight month, as expected -> Report says BoE will raise its inflation forecast -> Sterling drops to a 6-month low

UK inflation remained at an 8-month high for the fourth straight month, thereby supporting reports that the BoE will raise its inflation forecast later this week.

Consumer prices were 2.7% higher in January than January 2012, which confirmed expectations for unchanged inflation. On a monthly basis, consumer prices declined 0.5% in January following December’s 0.5% increase in prices, according to the UK Office for National Statistics.

Clothing and footwear prices fell by 5.4% in January, while alcohol and tobacco prices rose 5.4% over the same month. Producers’ output prices rose by 2.0% from January 2012, while retail prices rose 3.3% annually, according to the UK Office for National Statistics.

The inflation release follows a Telegraph report from last weekend, which reported that the Bank of England will raise its inflation forecast for the next two years. The BoE has previously said that it expects inflation to exceed its 2% target for the next two years. The same report also said that the BoE will lower its growth target, so it’s possible that the central bank may still add to its stimulus even if it sees inflation continuing above target. Therefore, although higher inflation is Sterling negative, the effect of inflation on monetary policy has been somewhat neutralized by poor growth.

The British Pound declined about 90 points ahead of the inflation release and set a new 6-month low, hinting that some traders may have been expecting a lower than expected read. However, when the inflation was reported unchanged, GBP/USD still kept almost all of the losses. The pair is currently trading slightly below 1.5600, and the 1.5500 level may now provide support. Resistance could be provided at 1.5662, by the 38.2% retracement of the decline from April’s high to June’s low.